Derivative Settlement With Benefit Personal to Plaintiff Rejected

In 1850, Abraham Lincoln prepared notes for a law lecture. He emphasized the importance of compromise because after litigation, “the nominal winner is often a real loser—in fees, expenses, and waste of time.” Delaware law also favors the compromise and settlement of disputes, and that policy preference extends to class and derivative litigation. Settlements must be fair, however, and the courts in representative litigation have a special role to play in reviewing the give and the get to prevent abuse. In recent days, for example, practitioners have received clear guidance that a peppercorn of modest disclosure may not support a class settlement that includes a full release and dismissal of all breach of fiduciary duty claims. Similarly, as the recent case of Smollar v. Potarazu, C.A. No. 10287-VCN (Jan. 14, 2016), illustrates, even where a derivative settlement reflects real value to a Delaware entity, the Court of Chancery rarely will approve a settlement where an individual representative plaintiff receives a benefit personal to her that is not shared with the class she represents as that fact alone calls into question the fairness and reasonableness of the settlement.

Background Facts

Plaintiff Marvin Smollar brought a derivative complaint seeking to remedy what the court characterized as “a series of fundamental failures in corporate governance.” Following difficult litigation, Smollar achieved most of what he sought in a settlement: a stockholder’s meeting, two independent board members, a special review committee, and the company’s hiring of an independent auditor. Had Smollar simply requested an award of attorney fees for his efforts, the court likely would have approved the settlement. However, the settlement agreement also required the company to buy back his stock, and only his stock, for the same price he had originally purchased it 15 years ago for a total of $473,153.64. Several stockholders objected on the ground that Smollar was purporting to receive a benefit personal to him while serving as a fiduciary for the company and its remaining stockholders.

Court Rejects Settlement